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Capital gains tax on overseas shares & loan

Can overseas loan fx profits/losses be used as expenses?

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Hello,

I am a CIMA qualified accountant so dont have experience when it comes to financial tax and im hoping I could receive some advice in relation to my partner and  capital gains tax on overseas share trading.

He is a UK resident (UK tax payer) and looking to trade US stocks on a platform called Interactive Brokers. They allow him to keep his base currency balance on their system in GBP, and take a loan in USD secured against his GBP balance (the USD loan amount is calculated using the GBPUSD fx rate on the day the loan is opened, the loan interest rate is a reasonable 1.58% yearly).

He can then use the USD loan to purchase US shares without ever having to change his GBP balance to USD, and in the process mitigating foreign currency risk (and also ruling himself out for any possible foreign currency gain).

My concern is that he would be liable for capital gains tax on any perceived fx gain on the shares due to HMRC requiring overseas share purchases/disposals to be converted back to GBP for tax purposes. (He wont actually receive any fx gain himself due to taking the USD loan out and buying the shares using the loaned USD).

I'm wondering whether the Interactive Brokers loan amount can be used to net off  against any perceived fx gains (or losses)?

Please see this example where I have shown the loan amount as part of the transaction:

Acquisition:  01.01.20, GBPUSD 1:1.5
ABC.USA shares purchase price per share £100 ($150)
Interactive Brokers Loan liability £100 ($150)

Disposal: 31.01.20, GBPUSD 1:1.2
ABC.USA shares disposal price per share £125 ($150)  
Interactive brokers loan repaid £125 ($150)                   

Gains/Losses:

Gain/loss on share disposal = £25
Gain/loss on loan repayment = -£25
Net = £0

I appreciate any advice or input.

Replies (26)

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Psycho
By Wilson Philips
04th Jul 2020 21:17

It’s quite straightforward - the loan is irrelevant.

Gain (loss) based on GBP equivalent of sales proceeds less GBP equivalent of acquisition costs.

Thanks (1)
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By frankfx
04th Jul 2020 21:26

firstly,Ask the broker.
They are generating pots of dosh.
Attracting UK investors to use s dollar based platform
They should have a FAQ.
With answers.
Indeed an investors forum too

Present their answer here.

At least test their customer service standards, for which you will are pay ING handsomely.

Then let us pick over the bones, if need be.

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By Tax Dragon
05th Jul 2020 07:42

I agree with Wilson. In your example, there is no profit but a £25 gain. It's not unusual.

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By Grace12
05th Jul 2020 14:44

Thankyou for the replies Wilson, FrankFX and TaxDragon.

I will send a message over to the broker today and see how they respond.

Wilson & TaxDragon -if this is the case and tax will be payable when no profit has occured in reality it seems pretty unfair by HMRC, its paying tax out of thin air as no gain was made and the investor is in a net neutral position due to the exchange rate changes.

I found this guidance today which looks like it confirms that foreign loan losses are not deductible as an expense, I am not sure though:
https://www.gov.uk/hmrc-internal-manuals/capital-gains-manual/cg78335

I will report back on my findings from the broker. Thanks again.

Tidier version of my example: https://i.imgur.com/3sExUPG.png

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Replying to Grace12:
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By Tax Dragon
05th Jul 2020 14:53

I don't see it as unfair. A loss isn't allowable, a profit isn't taxable.

You're looking at the taxable apples next to the taxfree pears and thinking they should be the same. Why should they?

Thanks (2)
Replying to Tax Dragon:
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By Grace12
05th Jul 2020 17:48

I'm looking at it from the tax payers point of view. From my example, he used £100 to open the trade and is left with £100 at the close of the trade. He didn't make any profit, that's why I feel it's unfair to pay tax when no gain has been made.

Yes, fictionally it looks like the £100 was converted to $150 and then the $150 was converted back to £125 but in reality that didn't happen as he was loaned the $150 by the broker and then repaid it.

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Replying to Grace12:
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By Paul Crowley
05th Jul 2020 18:09

What if if the makes no CGT losses, but makes exchange gain.
Would you and client think he should pay tax?

What if he makes exchange loss on his holiday money. How does he get relief?

Thanks (2)
Replying to Grace12:
Psycho
By Wilson Philips
05th Jul 2020 18:30

What your client effectively has is a hedge loan to protect against the commercial impact of forex movements.

The simple fact though is that the investment is a chargeable asset for CGT. The loan is not. The mistake is in trying to treat the two as one.

It’s not a perfect analogy but the principle is the same:

I borrow £100k to buy an asset and pay £20k in interest. I sell the asset for £120k. Is it fair that I have to pay CGT on the £20k gain when, overall, I have made no profit?

Thanks (2)
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By Grace12
06th Jul 2020 10:45

Client hasn’t made any FX exchange gain or loss as his GBP always stayed in GBP, but still has to abide by CGT rules and use the GBP converted values which make it appear that a gain has been made. The client started out with £100 and has £100 at the end of the transaction, no gain.

I wouldn’t expect any 'fx loss' to be an allowable offset either as it simply didn’t happen in real terms.

It would be even worse if client made a capital gains loss and a 'forex gain'.
Buys shares for $150 (£100 gbp:usd 1:1.5)
Sells shares for a loss at $125 (£104.17 at gbp:usd 1:1.2)
Net £4.17 gain in hmrc terms due to the fx gain, in reality client has made a $25 (£20.83 loss)

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Replying to Grace12:
Psycho
By Wilson Philips
06th Jul 2020 11:53

I'm not sure what you're trying to say here.

"make it appear that a gain has been made" - a taxable gain was made.

Re your second example - the client did not make a loss. He made a £4.17 gain. £104.17 less £100 = £4.17.

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Replying to Wilson Philips:
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By Grace12
06th Jul 2020 13:57

I understand what your saying, when values are converted to GBP then yes there is a capital gain due to fx movement.

The client does lose money overall though as he loses on the fx movement on the borrowed USD, yet still pays tax.

Thanks (0)
Replying to Grace12:
Psycho
By Wilson Philips
06th Jul 2020 13:54

So what. Those are the rules. Do you now accept the position, or are you still challenging it?

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Replying to Wilson Philips:
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By Grace12
06th Jul 2020 20:47

Its clearly unfair in the circumstances I have explanied, why should a client pay tax when in absolute cash terms the client has not made any gain or possibly even a loss. But the rules have to be adbided by so I accept them.

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Replying to Grace12:
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By Tax Dragon
06th Jul 2020 20:49

There's a very easy way for him to pocket the £25 profit if he wants it.

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Replying to Tax Dragon:
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By Grace12
06th Jul 2020 21:02

Do share please :-)

I do appreciate everyones replies in here, its opening my eyes to the world on the other side of management accounts, ask me anything about forecasting and costing and I will be happy to help but ask me about foreign exchange combined with tax I clearly have a lot to learn.

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Replying to Grace12:
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By Tax Dragon
07th Jul 2020 06:45

Sorry for the slow response, but I have been in trouble in this forum for alleged snidery and I feared that if I replied without sleeping on it my reply might come across that way again. (I grew up on a TV diet rich in repeats of Blackadder [thanks Mum!] and I think it has made me instinctively sarcastic.)

Anyway enough about me.

Grace12 wrote:

Do share please :-)

If you can't see this, I think I have identified why you are finding the tax treatment hard to understand. Option 1 is to buy shares for £100 and sell for £125. A £25 profit right there. Option 2 is to finance the purchase by a dollar loan. There's still a £25 gain on the shares (that rule has been confirmed in the courts, it's not just HMRC say-so) and that gain (on an asset) is within scope of CGT.

As Wilson has explained at length, how you finance the purchase doesn't affect the CGT. The hedging arrangement (a liability, so outside the scope) just means you have denied yourself the profit. But it's NOT unfair, because it works both ways. You might get a tax loss at no financial cost to you.

Thanks (1)
Replying to Grace12:
Psycho
By Wilson Philips
06th Jul 2020 21:42

It only seems unfair because you are unable to grasp the fundamental principles. Unless and until you do no amount of explaining is going to help.

It is no more unfair than the example I gave earlier where a gain is wiped out by interest paid on the loan.

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Replying to Wilson Philips:
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By Tax Dragon
07th Jul 2020 06:55

Wilson Philips wrote:

no amount of explaining is going to help.

I've taken that as a challenge :-)

Hopefully pointing out that CGT applies to assets and does not apply to.liabilities will do it.

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Replying to Tax Dragon:
Psycho
By Wilson Philips
07th Jul 2020 07:09

Well, your explanation could not be clearer.

So, I’m just going to cause more befuddlement and say that the position would be different if the investor were a corporate :-)

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Replying to Grace12:
By SteveHa
07th Jul 2020 08:15

Grace12 wrote:

Its clearly unfair in the circumstances I have explanied, why should a client pay tax when in absolute cash terms the client has not made any gain or possibly even a loss. But the rules have to be adbided by so I accept them.

Let's turn your question around and see if it helps focus your mind. Why would anyone enter into such an arrangement if they don't expect to profit from it?

As Wilson has already explained very clearly, your are conflating two separate transactions, one being the loan and one being the gain. For tax purposes, one does not impact on the other. The source of funds in any transaction for CGT purposes is irrelevant to the calculation of capital gain/loss.

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Replying to SteveHa:
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By Tax Dragon
07th Jul 2020 09:15

SteveHa wrote:

The source of funds in any transaction for CGT purposes is irrelevant to the calculation of capital gain/loss.

That calculation being proceeds less cost, as in the first reply.

I'm realising that Wilson has a habit of providing all the answer that's needed and doing so in the first reply. Subsequent replies, like too many cooks, risk spoiling the clarity of the soup. (Just as too many metaphors obscure the meaning.) I think in future, if the first reply answers the question, I'll simply stay off the thread. Less aggro all round.

Thanks (1)
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By Grace12
07th Jul 2020 12:52

Thankyou for the feedback, a lot for me to think about and I think im getting it.

So from what I can gather so far, and this is all based on ignoring the share price and focusing just on currency movement:

Option 1: Stop using the hedge as that will mean the client receives any exchange rate gain and will be happy to pay cgt.
This wont work for him as he needs to use the hedge loan to protect against currency risk and doesn’t want to convert his sterling into dollars.

Option 2 which is the situation he is in: continue using the hedge, any gains or losses caused by currency movement wont be a real life profit or loss for the client. For cgt purposes any gains or losses caused by currency movement will be liable for cgt taxation or cgt allowable loss, so I take back the unfair comments as it balances out both ways.

The issue with option 2 is that in the long run its not much of a benefit for him to receive cgt losses (caused by currency movement) as based on history this is less likely than the other way around.
Over the last 15 years sterling has lost 35% against the dollar, hence whenever he is in a trade and parked in dollars its likely he will be making a currency based gain against sterling on which he will pay cgt with the hedge stopping him actually receiving the profit.

Please do point out to me if I am still missing anything here, I dont mind being corrrected and any snidery is fine by me if its moving me along in understanding the options available.

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Replying to Grace12:
Psycho
By Wilson Philips
07th Jul 2020 14:09

I think you understand - your main mistake was to suggest that it was unfair.

But - "hence whenever he is in a trade and parked in dollars its likely he will be making a currency based gain"

If that's the case, why bother with the hedging loan? If he's a cautious sort (in which case why is he investing in stocks and shares?) and wants to take out such a loan to protect himself against the less likely sitation where he makes a currency loss that's entirely his choice. But it is a choice, and has nothing whatsoever to do with the gains and losses that accrue on his investments.

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Replying to Wilson Philips:
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By Grace12
07th Jul 2020 14:25

Got it, thankyou, its taken me a while but your first reply had the answer all along!

"hence whenever he is in a trade and parked in dollars its likely he will be making a currency based gain"
I need to correct this to say "hence whenever he is in a trade and in dollars for the purposes of the trade its likely he will be making a currency based gain against sterling" - at no point does the client ever swap his sterling for dollars.

You are right, he is seeking protection for the less likely situation where he makes a currency loss, the way GBPUSD has moved over recent times mean its more likely he will make a currency gain which wouldnt be a bad thing.... I wont go into detail but he reckons this may change after Brexit is concluded. I think his primary objective is to eliminate the currency risk altogether and simply focus on the trading of the shares.

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Replying to Wilson Philips:
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By Tax Dragon
07th Jul 2020 14:25

Where the rules can hurt is with overseas property funded by mortgage in the local currency, repaid on sale. The 'hedging' then isn't necessarily deliberate.

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Replying to Tax Dragon:
Psycho
By Wilson Philips
07th Jul 2020 14:48

Yes, it was a well-documented issue a few years back.

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